fiscal policy as a means to prevent depression
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BYMANGESH PATIL
JAYESH BHANDARIANKUSH MOGAL
SHREEGANESH SARVE
Fiscal policy as a means to prevent Recession
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DEFINITION
Fiscal policy refers to the taxation, expenditure and borrowing by the Government.
It is the most important instrument of government intervention in the economy.
Three basic objectives –1. Ensuring price stability2. High output and employment level3. Economic growth
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Recession
The fall in general price level is called ‘Recession’.
This is a phase of a Business cycle which succeeds the phase called ‘Peak or Maturity’.
This phase is characterized by following points-
High rate of unemploymentSubstantial decrease in GNPFall in pricesUnderutilised excess capacity
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Illustrations of recessions
Great depression(1929-1933) In US, Unemployment rate -3.2 to 25 % GNP –Fall by 30 % Recessionary situations in 1964,1984Japan – 1990s period of sustained recession (huge amount of savings)World recession 2008 (sub prime crisis)Eurozone crisis
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Process of Recession
Peak Period in the EconomyWave of pessimism amongst investors
regarding the mechanism of profit making in the market.
Lesser investmentsLow aggregate expenditure and demandLow national output Cyclical unemploymentDepression
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Graphical presentation of recession
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Need of fiscal policy in tackling recession
Superiority of fiscal policy to monetary policyMonetary policy depends upon interest ratesUnemployment and pessimism in economy Direct effect on income, employment,
expenditure and output.‘Attack is the best defense’-Maintain full
employment with gradually rising price level
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Expansionary fiscal policy
Discretionary fiscal policyDeliberate change in government expenditure and
taxes to influence national output and pricesNon-discretionary fiscal policyAutomatic stabilizers-Built-in tax or expenditure
mechanism which automatically increases aggregate demand in recessionary times.
1. Personal income tax2. Corporate income tax3. Transfer payments(unemployment compensation)4. Welfare benefits
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GOVERNMENT EXPENDITURE TO THE RESCUE
• Discretionary fiscal policy Increase in expenditure by starting public works.
Ex.- Building roads, dams, ports, irrigation works, electrification of new areas etc. Two effects
Direct effect:- Increase in income of material suppliers & labors
Indirect effect:- Increase in disposable income and consumption expenditure
-Greater output, income and employment - increase in transaction demand for money
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Graphical presentation
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Reduction in taxes
Indirect effectIncrease in disposable income and hence
marginal propensity to consumeE.g. Government reduces Rs. 200 crores of
tax people have Rs.150 crores as disposable income (MPC=.75)
Keepin Govt. Expenditure constant, an upward shift in C+I+G curve.
Decreased taxes =Increase in income, output, employment
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Illustrations
1964-US president John F. Kennedy waived off $12 billion worth of tax liabilities.
1984-US prez Ronald Reagen ordered reduction in taxes
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Multiplier effect
Tax multiplier (Change in Taxes × MPC/ 1-MPC)Government expenditure multiplier (1/1-MPC)Tax multiplier < Govt. Expenditure multiplier
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Other measures
Encouraging personal savings and investment(Retained profits reinvesting in the economy)
Encouraging entrepreneurs
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THANK YOU